Monday, February 06, 2012

with some qualifications, but a bottom call nevertheless. this is not to be taken lightly. bill is the best working commentator on US housing markets, and his calls have been very good indeed.

in general i might agree. five years ago i wrote, piggybacking on CR's work:

one might expect, if precedent holds, for starts to bottom and inventory (as measured in months of supply) to peak around 2010 -- three years from now -- to be followed at some distance by a bottom in prices. this roughly comports with the new york times analysis, which shows house price downtrends to be persistent events lasting at least 14-16 quarters (ie, well into 2010). calculated risk there also notes, however, that the frothiest markets experienced longer corrections, lasting up to six years.

it turns out that starts may have bottomed somewhere between early 2009 and early 2011. new home sales bottomed in 2010.

i rather expect that collar-county housing will more or less totally collapse under all the supply and get really, REALLY cheap as we move through 2011 into 2012 or 2013. particularly if there's a strong second leg to the recession -- as i expect there will be, probably starting in 2010, accompanying the decline of fiscal stimulus spending levels from current (-12%) of GDP -- mid-to-high-end house prices might fall shockingly far. there's such a huge supply problem!

as CR notes, that supply problem is diminishing. though there may be considerable shadow inventory being held back from the market, the data on actual supply makes it clear. so things have gone according to hoyle, as it were, so far -- and if they continue to do so, we probably are close to a low in house prices.

and one would do well to note that, regardless of the reasons why, mortgage rates are unbelievably low and that has made houses very affordable. this from dataquick in december:

The typical mortgage payment that home buyers committed themselves to paying last month was $935. That was up from $931 in November. October's $924 was the lowest since at least 1988. It was $1,055 for December 2010. Adjusted for inflation, last month’s figure was 58.2 percent below the spring 1989 peak of the prior real estate cycle. It was 66.1 percent below the current cycle's peak in June 2006.

that is way, way down. positive carry for buy-to-let investors is now a reality.

we never did get a 2010 "double-dip", though we came close. but the risk case for housing prices, it seems to me, is that expressed by richard koo with respect to the balance sheet recession, fiscal policy and the drive for austerity. this is koo:

In 1996, the year before Hashimoto's fiscal reforms were launched, Japan recorded an economic growth rate of 4.4 percent, the highest among the G7 countries. Encouraged by this strong growth, asset strippers from New York rubbed shoulders with ethnic Chinese investors from Hong Kong in Tokyo hotels in late 1996 as they looked for real estate to buy. They came to Japan because land prices had fallen so fast that, relative to rents, properties had become attractive investments even by international standards. If the government had not scaled back its fiscal stimulus in 1997, the growth momentum from the previous year could have been maintained, and asset prices would likely have formed a bottom with the help of foreign investors.

Instead, fiscal consolidation torpedoed the economy, which proceeded to shrink for five consecutive quarters. This economic meltdown prevented foreign investors from carrying out due diligence, and drove them out of the country. (Due diligence involves verifying the profitability of a potential acquisition through careful estimates of future revenues and expenses. An economic collapse makes it impossible to forecast revenues, rendering due diligence, in turn, impossible.) Their departure, in turn, triggered a renewed slide in asset prices. Instead of stabilizing with the help of foreign investors in 1997, commercial real estate prices started falling again. From 1997 to 2003, commercial property prices plunged another 53 percent, further aggravating the balance-sheet problems of Japan's corporate sector.

This additional 53 percent drop in real estate prices was an unprecedented blow to the Japanese economy. Although property values in 1997 were down substantially from their peak, they were still no lower than in 1985, some six years before the bubble peaked. At that level, most Japanese companies could still absorb the losses and move forward, and for many firms, it was simply a case of paper profits disappearing or turning into small paper losses. But a further 53 percent decline from the levels of 1997 took real estate prices down to levels last seen in 1973. No company (aside from those that were debt-free) could escape serious balance-sheet damage in the wake of such a massive decline in values.

it bothers me that, in spite of the greatest housing bust of all time, price-to-rent ratios haven't really gotten very cheap but have more or less reverted to mean. as noted, long-run ratio means become the mean by the ratio staying below as much as above them -- and if there was ever a chance to reverse the expensiveness of recent years with a period of prolonged cheapness, you'd think this would be it. and indeed perhaps rising rents will drive such a move in spite of flattening house prices. any serious attempt at fiscal austerity in the united states could, i think, bring on exactly such a condition through another serious contraction of mortgage finance and thereby house prices. but political paralysis has prevented, thus far, real action against deficit spending -- which is why the US has outperformed the UK and the eurozone economically.

UPDATE: and more from CR -- noting that real prices (as opposed to nominal) may lag the bottom by as much as five years. given the deleveraging of the housing complex -- which has continued steadily through the most recent z.1 update -- and the disinflationary impetus deleveraging imparts on the economy as a whole, i'm not sure there's much room for nominal increases if real prices are down unless government deficits are made to pick up markedly from the current ~9% of GDP.

Tuesday, January 10, 2012

so what is a depression? i would argue that the condition of depression -- separate from recession -- has little to do with GDP, employment rates, and the bevy of macroeconomic data that is commonplace in analyzing the national economy. standards such as a 10% unemployment rate or four or more consecutive quarters of contraction are arbitrary markers that seek to delineate recessions from bad recessions without marking a difference of type.

we might then define a depression as an episode of prolonged private sector deleveraging. and there can be no question that that is exactly the current condition, not only in the united states but virtually the entire first world.

within that episode there may well be periods of expansion as well as recession -- much like the roaring but forgotten expansion of 1933-36 or the rather more tepid US expansion of 2009 through today. indeed there is no reason that the economy of a country might not grow on a real per capita basis during a depression with the help of productivity gains.

but throughout a depression episode it must be realized that, in order to satisfy the balance of payments, the public sector must run a fiscal deficit which inversely corresponds to the private sector's newfound preponderance toward surplus (that is, savings and debt repayment in excess of investment and net exports) in order to prevent a deflationary collapse of income. if the government fails to do so -- through tax cuts or spending initiatives -- a sudden lapse back into recession is the sure and immediate consequence.

i am provoked to restate all this, much of it familiar, as i listen to the litany of 2011 retropsectives and 2012 prospectives that have accompanied the turn of the year. i've heard any number of forecasts for better and worse, but i've yet to hear one that clearly outlines the reality of the american economic situation, which is this:

if the federal government continues to run a deficit in the area of 9% of GDP, we will continue to lumber along a slow growth trend with vacillations over and under the trend as private sector deleveraging either decelerates or accelerates. this will continue until the private sector has reduced its vast debt hoard to something far more sustainable on a discounted cash flow basis -- a process likely to take many years.

if instead the federal government undertakes to reduce its deficit -- either by raising taxes or allowing tax breaks to lapse or reducing spending -- we will see private sector incomes drop, delinquencies and defaults rise, deleveraging accelerate to compound the public contraction, and recession thereby powerfully return as the deflationary circuit broken by 2009's ARRA spending reasserts itself.

in other words, the economic forecast for the united states in 2012 (and 2013 and some years beyond) hinges entirely on the political calculus of washington. any and all such forecasts are entirely reliant on that one factor.

Wednesday, December 08, 2010

with SNAP enrollees as a ratio of the total population, expressed as a percentage of the forty-year mean ratio. we're clearly in uncharted waters, particularly when you consider that food stamp enrollments were subject to welfare reforms and the secular trend in enrollment was probably down going into the financial crisis.

yesterday saw the federal reserve's g.19 statistical release on consumer credit. some have noted the rebound in consumer credit off the worst months of 2009 with a measure of hope regarding consumer balance sheets. and indeed yesterday's headline showed further improvement, making for a positive three-month average change in overall consumer credit outstanding.

but there's a fly in the ointment, it would seem. one of the sticking points of the release to me was the massive growth in "student loans" -- running at over 80% year-on-year, an expansion of a very material $120bn. this is a stock, not a flow, and the idea that the amount of outstanding sallie mae loans had nearly doubled in a year is silly. so the question became what was driving the anomaly?

The Federal Family Education Loan program (FFEL) allows private financial institutions to provide students with loans, but the government assumes the risk of default, and pays the financial fees while the student attends college. This amounts to privatized gains combined with socialized loans. The CBO found that compared to the William D. Ford Federal Direct Loan program, an alternative system in which the government just directly provides students with loans, FFEL loans cost the government 10 to 20 percent more (PDF). Eliminating the unjustified subsidies and government financial backing for the FFEL program by expanding the existing direct loan program is projected to save $67 billion over the next decade.

Under the FFEL program, financial institutions like Sallie Mae, Bank of America, National Education Loan Network (NELNET) JPMorgan Chase, Wachovia, and Wells Fargo would originate these FFEL loans with students, and then sell them on the secondary credit market. In 2008, the credit market dried up, and the private lenders had nowhere to sell these government guaranteed loans. So, the government stepped in to buy up these loans and protect a program that was already a massively wasteful corporate boondoggle.

The bailout was authorized with HR 5715 Ensuring Continued Access to Student Loans Act (ECASLA). The bill allowed for the Department of Eduction to produce three different programs, the Loan Purchase Commitment Program, the Loan Participation Purchase Program, and a buyer-of-last-resort Asset-Backed Commercial Paper Conduit.

this purchase program -- which amounted to the department of education buying privately-originated student loans that were intended to be securitized but now could not be -- was radically expanded in 2009 and 2010, with a purchase amount target of about (you guessed it) $120bn. (the reporting of the actual purchases is here.)

in other words, what is being included in the g.19 as an expansion of student loans (and thereby consumer credit) is really in fact a bailout of several large banks and finance companies stuck with immovable loans.

so what does the picture of consumer credit look like with the influence of these asset purchases removed? as you can see, there's been very little letup in the pace of consumer deleveraging. the blue columns show the YoY change of unadjusted consumer credit as reported -- obviously a big collapse, but more recently an attenuated contraction that resembles recovery. the red columns show the same less the line items including student loans; clearly, there's not only no attenuation but year-on-year contraction in still picking up pace.

also of interest i think is the monthly sequential version of this same chart. we can easily see the seasonal waves of consumer credit expansion leading up to the holidays and contraction in the winter months. looking at the blue as-reported columns, late 2008 was extraordinary for its lack of holiday credit expansion, which of course shows up as the massive year-on-year contraction is was in the previous chart. ever since there's been contraction for the most part, but (as noted) attenuating through to the recent months which have shown three months of actual sequential consumer credit growth.

what's also apparent in the red columns, however, is how the ECASLA loan repurchase program has in 2010 completely distorted the true picture of consumer credit.

i've previously noted here the softening of leading economic indicators since april of 2010. i've also highlighted how the employment ratio derived of the household survey of the employment report has deteriorated markedly over roughly the same period (along with other LEI, such as CFNAI and the philly fed ADS). now we can also see that consumer debt deleveraging, after dissipating through the middle of 2009, has begun to reintensify powerfully in the last few months despite being "hidden from view" by the ECASLA bailout.

i've mentioned many times before steve keen and his three-party stock-flow model for banking economies (demonstrated here), one of the conclusions of which is that the change in aggregate demand flow is equal to the sum of the change in GDP flow plus the second derivative (or acceleration) in debt -- this is also known as the "credit impulse" formulation of aggregate demand. what the g.19 is giving evidence of is a renewed deceleration in consumer debt levels (that is, faster deleveraging) which should negatively impact aggregate demand. and that impact is, i expect, going hand-in-hand with contracting LEI and deterioration in EMRATIO.

it is also, i must imagine, behind the recent government move to initiate a second round of quantitative easing and an attempted extension of some economic stimulus measures. the administration must know as well as anyone that the rolloff of stimulus measures will be subtracting from GDP in coming quarters if they are not sustained; and that, if that rolloff is paired with a renewed deleveraging impulse, a powerful recession is all too likely. from a starting point economy that, as measured by per capita real final sales, hasn't really recovered at all, such an outcome could be politically, economically and spiritually devastating.

Thanks for delving into this, I've been wondering about the 'federal government' line growth for a few G.19 releases also.

But how sure are you that ECASLA is actually boosting the top line non-revolving credit numbers versus just shifting the composition of its components? Looking at nonrevolving credit totals in the G.19 report it seems like there is an ongoing shift from finance companies (and to a lesser extent commercial banks) to federal government. That would show a noisy but roughly flat trend in total non-revolving credit (still a shift from the pre-2008 rapid growth).

By subtracting the portion held by government you are assuming that its increase came from "elsewhere", i.e., numbers that weren't previously accounted for in the G.19. That might be true but on my quick reading of all this isn't immediately obvious to me. (Let me know if I missed something).

But either way, a shift to direct government lending could enable a decision to lower lending standards and boost borrowing (and spending) activity. That may be partially sustained for as long as the government wants it that way, but would partially change the deleveraging story if true (at least if people take on that debt with the intent to service it vs planned abuse/defaults).

right, hbl (hello!) and i'm not certain. my presumption is that these were loans originated for distribution and so never found their way onto finance company balance sheets -- that is, they were shadow banking assets. when they couldn't be pushed into a conduit thanks to the collapse of the commercial paper and securitization markets, the government got involved and brought them on.

Friday, December 03, 2010

following up on last month's analysis, this morning's non-farm payrolls release did little to assuage me on the household survey data.

on an absolute level, the EMRATIO is back down to its recession low point from december 2009 at 58.2% as household data continues to be frighteningly bad. more importantly than the absolute level, however, is the continuing steep reversion from the april high point. as was highlighted last month, EMRATIO hasn't backed off a local high to this extent without the US economy entering recession since the 1960s, a period characterized by a much higher share of manufacturing employment and therefore generally more volatile overall employment dynamics. current FRED page here, employment situation data index here.

no one, and i mean almost literally NO ONE, in the financial world is looking for the united states to return to recession now, only a few months after double dip fears ran rampant. a shot of quantitative easing and massive expansion of the ZIRP-funded, dollar-based risk carry trade wiped away many of those fears, along with relatively strong manufacturing data as production has caught up with restocking following inventory drawdowns incurred in 2008 and early 2009. but i think we're now seeing the onset of exactly that.

it's becoming clearer now that japan is well on its way into a double dip, with new orders, PMI and net exports heading south rapidly under a strengthening yen. the euro periphery and PIIGS have seen what can only be called a bond market crash in recent days, an event likely to catapult the lot, weak and stagnating economies all, into a severe double dip. with important sources of global demand like these contracting, it is hard to see how a soft US economy will not be impacted at least marginally.

but i think the bigger story is soft domestic demand, as households continue to delever rather than borrow, as government deficits succumb at the margin to first the deceleration and then contraction of stimulus spending as well as nascent austerity measures (such as the refusal of emboldened house republicans to extent unemployment benefits, an imminent shutoff of $80bn annual systemic income spigot). the framework established by richard koo would see even mild reductions in government deficit spending support of systemic income as both deflationary and recessionary, and i expect some of both. pictured here are real final sales as denominated by civilian employment (in red) and by total population (in blue). while sales have picked up from the low point of the recession, that expansion has only really kept pace with population growth off the low. meanwhile, the income recovery driving real final sales (as reported in the BEA's personal income report) have clearly been dependent on a massive expansion of transfer payments as well, which helps explain what looks like a large jump in spending per employed person. with congress now refusing extensions that would maintain this expansion and with an eye on transfer payments of all kinds, we need payroll and compensation growth to sustain income. (for context, transfers are have jumped from about 22% to 29% of the size of compensation received during the recession. PCTR is also up over 18% of personal income from 14%. cutting off extended unemployment benefits probably step-change reduces the flow of personal income in the area of 1%.)

as mentioned earlier, manufacturing has been restocking drawn-down warehouses throughout the economy after 2008's "sudden stop" in production, but that catch-up is now all but over. i think soft demand is now feeding through the manufacturing chain, showing up in some fattening inventories and softening new orders. we're already seeing examples, such as DRAM pricing, of supply simply exceeding demand after the restocking jolt ended.

This decrease has all happened in the wake of the PC industry suffering right after it experienced explosive shipment growth mid-year. Back in September, Samsung, the world’s number one manufacturer of memory, was one of the first to say that hubris off the back of midyear shipments growth will likely lead to supply far exceeding demand, leading to a steady decline in DRAM prices. True to their predictions, this has happened, with DRAMeXchange simply confirming this.

just this morning the census bureau's factory orders figure came in disappointing, though within the range of the uptrend. this is another metric normally led by EMRATIO to the downside, though orders usually lead EMRATIO in recovery.

which metric we're being led by at the moment is not altogether certain, and depends very much on whether a consumer-demand expansion is in the cards. i tend to think continuing disappointment in hiring in response to a lack of end demand alongside reductions in government transfer payments will exacerbate the "non-recovery" in per capita real final sales, increase the private sector's balance sheet remediation prerogative and weaken orders as recession returns.

EDIT: doug short via business insider is following the ECRI weekly leading index and wondering if it isn't also signaling recession. It had fallen below (-10), and has since recovered to (-2.4).

The question, has been whether the latest WLI decline that began the the Q4 of 2009 is a leading indicator of a recession or a false negative. The published index has never dropped to the current level without the onset of a recession. The deepest decline without a near-term recession was in the Crash of 1987, when the index slipped to (-6.8).

short also looks at the philly fed ADS business conditions index and CFNAI from the chicago fed, neither of which rebounded as strongly as did ECRI WLI (probably because they do not have monetary policy components, as the ECRI black box likely does) and both of which are behaving quite poorly in their latest readings.

gm, Glad to see you back and posting. I always enjoy your posts. Michael(?) Dueker who used to post on econbrowser now posts his index here:http://www.russell.com/Helping-Advisors/Markets/BusinessCycleIndex.asp

this chart is of absolutely no use to traders. however, for longer-term investors, i think there may be no other more useful context.

and the message is unambiguous -- since 1995, it has been an excessively risky time to be in or get into the stock market. and of course it has since been a rather wild ride, in which you would have been far better off to have been in government bonds.

of course, that hasn't been true of every cyclical iteration of tobin's Q -- see 1966-1982, for example. but it is nevertheless food for thought.

Tuesday, November 09, 2010

what's worth noting is that the curve steepened throughout the deleveraging of the early 1930s with absolutely no inflationary implication, and stayed steep through the second world war. this feeds directly into the rationale of removing the yield curve from leading economic indicators during deleveraging cycles.

a steep curve is normally indicative of a large spread to be harvested by banks if they have the wherewithal to lend. lending growth drives growth in financial assets, income and aggregate demand, and can indeed foment inflation if such growth outpaces capacity. as such, it has a rightful place among leading economic indicators under normal circumstances.

but "normal circumstances" is very far from where we are today. other factors in a balance sheet recession -- notably the lack of private sector loan demand as the private sector attempts to improve balance sheets and the lack of borrowers creditworthy on the stricter standards of banking resultant of banks protecting themselves from further losses -- are driving net financial assets down in a secular deleveraging. and there can be little doubt that we are in fact deleveraging.

ft alphaville highglights the steepening US curve along with a multifaceted take on how the shape of the curve could influence bank behavior, but the critical observation remains that there is no loan demand -- that is, loan demand is net negative, with the private sector preferring even with very low interest rates to reduce debt -- meaning that the steep curve the federal reserve is trying to engineer will have no beneficial effect.

i think if they were really intent on flattening the curve, anon, they'd be buying the longer maturities. as it is, their average maturity purchase is intended to be in the 5-year range.

they're trying to have their cake and eat it too -- pushing liquidity, but keeping the 5s30 as wide as they dare to aid bank recapitalization and incentivize lending.

it won't work as an economic stimulant. chris whalen has been vocal on the point that credit demand isn't there, and now ZIRP is cutting down dollar interest revenues dramatically even with a wide percentage NIM. and i think pragcap has effectively explained the futility of QE under these circumstances.

I would imagine the average duration of bank assets matches the belly of the curve. So the Fed's actions would have initially hurt bank profitability.

IMO, the Fed focused its buying on shorter maturities to avoid taking on duration risk. In effect, they bet that bond investors would be forced further out on the curve as 5-7yr yields plunged. First, that bet unraveled as long end yields rose; then, today, even the 5yr maturity backed up. What a mess!

the thing is loaded with unintended consequences, isn't it? one of the hazards of having it so well telegraphed and thereby frontrun. they really disappointed those in the long end.

the fed's indifference to systemic income is really frightening as well. the desire to manipulate asset values in an effort to reverse balance sheet damage is understandable -- but there's no recognition of the collapse of interest income which compounds the leakage of income into debt repayment. deflationary side effects...

Monday, November 08, 2010

following on standard analysis previously discussed, conference board leading economic indicators (.pdf) with monetary factors removed continued to deteriorate in september.

here also is the component contribution breakdown, month-by-month. top chart is the "real economy" factors, bottom the excluded "monetary" factors. obviously the distorted yield curve has been the primary difference.

the bureau of labor statistics publishes the ratio of its estimate of the employed population against the total population of the country on a monthly basis in the non-farm payrolls report that was released this morning. while the headline figure of payrolls was a positive surprise, the EMRATIO, as it's known, headed lower alongside labor force participation, retreating to 58.3%.

this is, incidentally, down from a highwatermark of 64.7% in 1999 and 63.5% in 2007 -- the implication being, in a country of nearly 300mm souls, over 15mm people have lost their jobs (voluntarily or no) since the start of the depression.

anyway, it is the change in EMRATIO that can act as a convincing indication of the onset of recession. EMRATIO has now fallen about nine-tenths of the percent from its april peak reading. this graph illustrates all comparable declines in EMRATIO from a local peak back to 1966.

as you can see, EMRATIO hasn't backed off its local peak to this degree without entering a recession since the mid-1960s. and it is worth noting that the united states was a very different kind of employer fifty years ago than it is today -- while manufacturing output has remained around 15% of total output over the years, the fraction of the workforce employed in the highly-cyclical and therefore more-volatile manufacturing sector has been radically reduced by mechanization. in other words, in a service economy the level of employment tends to be somewhat stickier -- it was easier to generate a drop in EMRATIO in the 1960s than today, and the volatility of the series back then reflects that.

so what are the possible positive spins of this development? the onset of the retirement of the baby boomers -- a person born in 1945 turned 65 this year -- is likely to tip the trend down in EMRATIO as a product of natural demographics. so it is likely that dips in the ratio will be steeper than was normal for the period from 1970 until recently. there's also been reports of significant migration out of the united states of foreign workers from latin america as jobs have become very difficult to find, changing the cost-benefit of leaving one's family. to the extent that such people are captured by the report, that exodus might have an effect on EMRATIO, though it would be difficult to quantify.

but it's also worth noting that these effects, regardless of their source, still represent a relative decline in the number of workers in the united states. many have cited the ageing demographics of japan as a contributing source of their twenty-year economic malaise and the repeated and persistent disappointments that have characterized it, helping to drive the deleveraging of the yen economy. just because declines in EMRATIO may not be entirely a result of net corporate firings does not make them economically positive.

moreover, consider that if a lack of available labor was really the driving force behind the drop, one would expect to see accelerating costs of employment as well as jobs-hard-to-get measures being relatively low. clearly that isn't the case now. to the contrary, the pace of increase of average hourly earnings YoY is near a local low (EDIT: krugman makes this point today as well) while the conference board survey of consumer confidence indicates "jobs hard to get" rose in the most recent report to 46.1% of respondents, stubbornly high and near its cyclical peak.

all things considered -- particularly in the context of very slow and fading real final sales, the consumer metrics institute leading data and the leading economic indicators excluding the yield curve -- this contraction in EMRATIO is guilty until proven innocent. we can all certainly hope for a benign outcome, but my expectation continues to be for a return to recession (and possibly a surprisingly deep one) in coming quarters.

Thursday, October 14, 2010

serious economic downturns can be characterized any of inflation, deflation or price stability. what they all have in common is margin compression -- where the change in the price level of raw inputs and unleveraged assets rises relative to the price level of finished goods and leveraged assets. while many consider the great depression of the 1930s to have been a deflationary event (and it surely was) it is instructive to note that commodities deflated by far less than finished goods, and those by far less than the value and income generated by financial assets. what made the economy of the 1930s so destructive was the inability of businesses, beginning in late 1930, to sell products in any meaningful quantity at prices that covered their cost of manufacture. this has been true in every serious depression to my knowledge.

today, the federal reserve is attempting -- brazenly -- to raise the general price level of the economy as a whole by exchanging financial assets with the private sector, substituting income-generating instruments for newly-created cash reserves. this is an effort to undo some of the tremendous balance sheet damage in the private sector, as well as improve terms of trade for american exporters (as the trade value of the dollar is expected to fall under such circumstances). an examination of the fed's h.4.1 will show that the size of the fed's balance sheet continues near an all-time high of $2.3tn. more asset purchases are likely underway -- the fed's POMO schedule of acquisitions continues relentlessly, and an explicit program of quantitative easing is expected in response to ongoing economic weakness.

here's why i think the fed may be forced to relent.

the leveraged asset market that the fed would like to raise from the dead it cannot touch. housing is titanically oversupplied, and the fed's efforts to cheapen rates have served mostly to increase the percentage take of the banks in refinancing rather than increase purchasing power of new buyers.

chris whalen spoke on this point sharply last week. banks used to take a half-point in loan-making; now they are taking 400-500bps in an effort to raise their income. little or no economic benefit is flowing to the borrower at this point from declines in long-end interest rates. moreover, because of ZIRP, the actual cash flow through the banks is declining precipitously -- while interest margins remain wide, dollars earned are shrinking. this as non-interest expenses -- the cost of foreclosing on millions of delinquent loans, which is turning banks into REITs -- is exploding. whalen forecasts the large banks (JPM, BAC, WFC) to actually go cash flow negative in the next six months (though the suspension of foreclosures thanks to the surfacing MERS lien perfection issue may delay this).

the upshot is that borrowers can no longer refi in large numbers to their benefit, and banks are in no position to make new loans to purchasers. there is little benefit from QE here except to the banks' balance sheet.

on the commercial side, with a large output gap, high unemployment and significant unutilized capacity, there is no prospect of wage inflation -- average hourly earnings have not rebounded. without real final sales approaching something like strong growth, companies that are in a position to borrow to either invest, hire or raise wages have little incentive to do so. what capex growth that has been seen recently has been largely self-funded and from depressed levels; what borrowing that exists is being done in the corporate bond market, largely refinancing to cut down the income stream to creditors.

the result is that systemic income growth is dependent almost entirely on government fiscal stimulus -- a significant portion of which has flowed overseas through our again-growing current account deficit. the lack thereof has aggravated the decline in systemic credit as few borrowers either want or have the cash-flow capacity to increase borrowing as income remains sparse -- quite the opposite -- and has pushed borrowers toward default.

but the effect of the fed's actions on inelastic raw inputs is another story altogether. anyone looking at the commodity markets can attest to the power of the fed to spark speculative fervor with zero rates, cash substitution and debasing intentions. in spite of record stocks in storage thanks to depressed demand, oil is trading over $80/bbl. yet less elastic agricultural commodities have put in a far more impressive advance. this is where the fed's activities have been felt, and a reflexivity loop all but ensures that, for so long as the fed continues, a large part of its liquefaction will flow into raw inputs. there is already talk of popular unrest and the prospect of food riots in emerging markets.

so this is what the fed is accomplishing. it can do little to overcome the continuing deleveraging of the private sector as banks shed loans, which continues to drive down property prices. it can do little to increase income in the economy -- indeed, by increasing the take of banks in an effort to offset their as-yet-unrealized losses, it is redirecting income from the private sector into loss cancellation to the tune of $750bn a year on whalen's estimate, with deflationary implications offset only by expansive fiscal deficits. but, by devaluing the currency and encouraging speculation in raw inputs, it has raised the operating costs of the private sector (households and businesses alike) significantly within the dollar economy.

in short, the fed seems to have become a vehicle of margin compression and profit destruction -- increasing costs relative to revenues, reducing income, amid a deleveraging cycle.

if this policy is pursued further, we may well see margins compress further as commodity prices rise relative to all else while income stagnates or falls, driving huge numbers of private sector participants cash-flow negative and into bankruptcy. i've sometimes said before, with respect to the inflationary implications of QE, "call me when the fed balance sheet gets to $10tn" -- and in light of the above reasoning it's frightening that, as noted by ed harrison, paul krugman gets into the same ballpark. taken up something on the order of that target, i don't expect quantitative easing to avoid or even curtail bankruptcy and depression. the work of depression is margin compression -- and QE may be less a deterrent to that than a facilitator.

and all the while, there remains the latent but significant risk scenario that such moves will spur capital flight from the united states.

The result is that systemic income growth is dependent almost entirely on government fiscal stimulus — a significant portion of which has flowed overseas through our again-growing current account deficit.

Not sure if I understand this..why is a significant portion flowing overseas?

because we run a significant current account deficit, a fraction of american spending ends up in foreign pockets. when someone buys a chinese toy, the producer in china ends up with dollars -- most of which his government then exchanges into yuan, recycling them into treasury bonds.

Friday, October 08, 2010

i haven't run this analysis in a year's time, but it's worth updating now. on twitter i've become vocal in the belief that the united states is headed into a severe double dip that will end all reasonable debate as to whether we are or are not in a depression. the theoretical basis for the notion emerges from the work of richard koo, whose framework of a balance sheet recession leaves little room for expansion given the rolloff of fiscal stimulus spending. i've further been amazed and disturbed by the continuing development of steve keen's stock-flow macro model, which has made enormous strides in the last year.

but, while theory is fine for hypothesis, there is no substitute for evidence. unfortunately there's been enough to convince me.

i last mentioned here the consumer metrics institute's GDP predictor in march. it has since marked out a horrifying path of collapse since peaking in october of last year (coincidentally about the time i last updated this study). CMI has helpfully overlaid the continuing contraction in their real-time transaction data atop the 2008-9 recession in this chart, to frightening effect. this is not theoretical exposition; a large decline in real transactions of consumer goods is behind this movement. i see this as confirmation of thesis.

a second confirmation emerges from a deconstruction of the ECRI's leading indicators on the methodology previously described. with a broken credit mechanism -- total loans and leases is still declining, as it has been for two years now -- and unprecedented federal reserve bank intervention in funding markets, i feel a handful of the LEI components -- yield curve, m2, stocks and the consumer expectations that largely follow stocks -- probably represent broken signals better designed for standard post-war recessions than the depression we're experiencing.

removing their contribution to the LEI reveals the weakness of the stimulus-fueled inventory cycle "recovery" of 2009-10. moreover, for much of this year, the "real" component aggregate was demonstrating outright contraction, with the level peaking in april 2010 -- a sharp warning of an impending return to recession, even as the ECRI LEI as reported set a new high in the last reading of the series. this of course mirrors the contraction reported in CMI data.

a number of regional manufacturing indeces (philly fed, empire state) has also shown a sharp slowdown in the last two months, with inventories again starting to build -- these being coindcident-to-lagging indications of economic activity, it would seem likely that contraction in consumer activity is starting to feed back into the manufacturing chain as CMI has for some time expected. house prices have continued to decline after a tax-credit-induced respite and jobs data has also disappointed, showing little or no recovery in the labor market. i expect these data series will now begin to show more severe deterioration through the end of the year -- following the CMI data and the rate of federal stimulus spending down -- and to remain very weak until the united states government is compelled to return to accelerating deficits in order to offset the debt deflation of the private sector.

Tuesday, August 31, 2010

from the fiscal sustainability teach-in of april 2010, marshall auerback (along with a great panel in Q&A) discusses the preconditions of hyperinflation within the context of two commonly cited examples, weimar germany of robert mugabe's zimbabwe, as well as a reference to the collapse of the american confederate currency in 1865.

the upshot: hyperinflation requires real-world destruction of the ability to either produce a significant amount of goods or procure same through import. weimar lost the ruhr valley -- which employed 25% of its workforce and created most of its ability to generate foreign exchange -- while being asked to pay a colossal war indemnity in gold or foreign exchange. zimbabwe, similarly, through misguided and corrupt implementation of land reform, destroyed well more than half of its ability to produce food. the confederacy was invaded and unable to prevent the destruction of most of its production capacity as well as its ability to tax.

literally none of these preconditions now exist in the united states or indeed any western state with a self-directed currency. barring the breakdown of civil order removing a huge slice of american productive capacity, hyperinflation is not a realistic outcome of our situation -- which is indeed highly deflationary, with systemic private sector delevering meeting insufficient government deficit spending to reduce demand, expand the output gap, and increase both balance sheet damage and savings prerogative.

that's not to say the united states will not experience bond market volatility. the dollar economy has long run a current account deficit that has rendered the american banking system dependent on foreign deposits for funding. the dollar itself will likely have to fall in value against the currencies of some of its major trading partners in order to close current/capital account imbalances in the long run. but that is very far from hyperinflation or even inflation. similar events and worse befell several nations in the great depression without ever generating serious inflation.

the united states is also an industrial nation in a world that may be experiencing the onset of resource scarcity. real goods may cost more in real terms in the future as a result. this decidedly won't be a result of either fiscal or monetary policy but rather material restrictions.

the western world is trapped in the aftermath of a crushing debt bubble collapse. richard koo has termed the phenomena a balance sheet recession, and his (correct) analysis of this profoundly deflationary problem yields a solution of utilizing government spending to offset and enable private sector saving in order to break the paradox of thrift and effect balance of sectorial flows without triggering a powerful deflation to force the requisite government deficits into existence. this is not a growth strategy but a survival mechanism, a way to assist the private sector with balance sheet repair.

we ignore it to our peril -- as we are beginning to see, now that government fiscal stimuli put in place in 2009 are waning and economic weakness is rapidly returning.

and yet ignore it we will. as befits the social mood of deflation, austerity has become the watchword not only for households and businesses but wrongheadedly for governments as well. a public which incorrectly thinks sovereign finances are just household finances writ large demands as much. that, in a democracy, means very little fiscal policy response is likely at least between now and november's elections.

by that time, if my expectation is met and no further expansionary fiscal action is taken, i expect the united states will be deeply mired in a shocking economic contraction that will exceed the frightening expectations of even the pessimists -- and the question as to whether or not we are in fact experiencing a global depression will be altogether resolved.

I think that you and Koo have this backwords. The root cause of this crisis was a debasement of our currency(bad fed policy) with overspending in the government and consumer spending and a lack of net savings. These Keynesian policies since 29 have done nothing but prolong the coming of our colapse and the longer we wait to fix this the bigger the collape will be. Instead of having the government spend like a drunkin sailor and taxing and infalting away the last bit of savings that people have, we need to do something different.

We need to use creative ways to help people increase and protect their savings. Instead of supporting those who are beyond repair, we need to restucture their debts We can not keep kicking the can down the road. There is no amount of stimulis that can solve this problem until the restructuring has cleared everything. With the path that you wish for us to go down and with what will surely follow after the elections, not only will our citizens be broke, but so will our government. Then who will help us!

This is wildly off-topic, but gaius, we met long, long ago on a blog we both frequented. A bunch of us lapsed old-timers are returning en masse to H&R next week, in an effort to try and recapture some of the goodness of its golden age.

You are cordially invited to participate, as a prominent member of the fondly-remembered Commentariat of Yore. From Sunday the 19th through Saturday the 25th, we'll be in the threads just like we used to be, discussing economic theory, making fun of trolls, and occasionally arguing via haiku.

Tuesday, May 11, 2010

Chances are no one will remember where they were or what they were doing on August 24, 2009, when three-month dollar LIBOR traded under three-month yen LIBOR, or on March 5, 2010, when the situation reversed and yen once again became cheaper to borrow. These dates are marked with green and magenta vertical lines, respectively, in the charts below.

The yield inversion of August 2009 was critical for the continuation of the global bull market; not only did it open the much larger pool of lendable American funds up to global yield hogs for purposes of investment and general merrymaking, it opened up global carry trades to the even larger pool of lendable Chinese reserves. The switch in funding for these carry trades had some adverse effects on Japan, including an unwelcome appreciation of the yen and a rise in its sovereign CDS costs.

The return trip in March preceded the incipient move by China to revalue the yuan by about three weeks; this is a coincidence as much as Pearl Harbor or 9/11 were accidents. All previous moves by China with respect to the timing and pace of yuan levels have been choreographed carefully behind the scenes with us, inter alia; those who protest that this is not how things should be run in a democracy are advised to grow up and stop dreaming.

Once the yen became cheaper to borrow, dollar/yuan-based carry trades started to be unwound. Unfortunately, this unwind intersected with the euro’s weakness, and the unwinding of carry trades into the euro zone and related blocs started to feed on itself as these unwinds always do. Put a lot of corn in a yield hog’s mouth and you will be um, amazed, at journey’s end.\

The linkages between the yen carry trade into the euro and global bourses (I love that word. Bourses, bourses, bourses, bourses) became very direct after mid-2007 when global interest rates started their decline toward zero and all assets started to become priced in ersatz money. They weakened somewhat between August 2009 and March 2010 as the dollar became cheaper to borrow, but things have reasserted themselves over the past two months. ...

... [W]hat is going on outside of your window is an unwinding of global carry trades produced by central banks’ collective belief that pushing rates to zero, counterfeiting their own currencies, and encouraging risky behavior is the answer to all problems. Maybe they believe past performance does not predict future results.

beyond driving the value of the dollar as the currency was first sold heavily on the international market to fund the trade, tapping much larger reservoirs of funds sparked a huge second leg in emerging market risk assets. for example:

the yen too is clearly driven by the carry trade, and was in process of funding a heavier share of it when the eurozone contagion exploded.

the transfers of funding in these trades clearly take time, and both currencies fund risk asset purchases. but what the expansion of the trade to dollar funding, first with the arrival of ZIRP in the US and then the yield cross described above, also may mean is that the unwind in progress has further to run, possibly much further. the exuberance of both USD and JPY in recent days hints as much -- both currencies fund quite a lot of third-market assets, and the carry trade is far larger than it ever was or could have been when it preoccupied me prior to 2008.

Monday, March 29, 2010

james livingston's articulation of how societies with concentrated wealth maldistribute their way into vulnerability was one of the more memorable posts of the last few years to my mind (subsequently referenced hereherehere and perhaps especially here).

an additional effect of wealth concentration was today postulated at naked capitalism, titled 'high income disparity leads to low savings rates', which goes over the notorious research from citi citing the rise of an american plutonomy. from citi:

In a plutonomy, the rich drop their savings rate, consume a larger fraction of their bloated, very large share of the economy. This behavior overshadows the decisions of everybody else. The behavior of the exceptionally rich drives the national numbers – the “appallingly low” overall savings rates, the “over-extended consumer”, and the “unsustainable” current accounts that accompany this phenomenon….

Feeling wealthier, the rich decide to consume a part of their capital gains right away. In other words, they save less from their income, the wellknownwealth effect. The key point though is that this new lower savings rate is appliedto their newer massive income. Remember they got a much bigger chunk of theeconomy, that’s how it became a plutonomy. The consequent decline in absolute savings for them (and the country) is huge when this happens. They just account for too large a part of the national economy; even a small fall in their savings rate overwhelms the decisions of all the rest.

an extension of this postulate is that societies with high wealth disparities should can tend to run high current account deficits, as low savings drives a need for capital importation as well as accommodating high consumption. this, citi feels, is reflected in the data.

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Friday, March 12, 2010

i won't attempt to defend this. it is a weekly closing price screen of the nasdaq 100 components showing the percentage of issues trading either above (demand, green), below (supply, red) or net of (demand-supply, yellow) their volatility envelopes. i've highlighted with green lines positive divergences which indicate institutional accumulation/waning downside momentum; vice versa with red lines. circles indicate points following such divergences where the spread between the demand-supply line and its moving average starts shifting down meaningfully.

the last upturn circle in the series registered in the last week of march 2009. the most recent downturn circle PROVISIONALLY registered in the second week of february 2010. its possible demand moving higher here plays out as it did in 4q2007 with a final bump up in price before weakness materializes. i am definitely drawing that final circle with a measure of anticipation, which could easily be reversed.

but i also do so thinking the probability is good that one will have an opportunity to buy the market at lower prices at some point in the intermediate-term future.

this is not foolproof. it doesn't mean there's a crash coming. even if the signal plays out it might mean a noisy multimonth consolidation of some kind, a la 1q2004-2q2005. but that's what i think i see.

Thursday, March 11, 2010

Although McGuckin et al indicated that the above problems had been addressed in 2001, it is clear that the statistical methods still used in constructing the LEI differ substantially from the experiences of real people in the real world. The Consumer Metrics Institute exists to provide alternative and more timely approaches to leading indicators, using the demand side of the economy to move our indexes as far 'upstream' as possible.

their march 8 commentary:

The contraction that began on January 15th in the 'demand' side of the economy moderated somewhat over the prior week. As we have mentioned before, the two most recent prior contractions behaved very differently. In 2006 a contraction event was relatively shallow and resulted in the GDP growth rate bottoming at a very meager but positive .1% in the third quarter of 2006. In contrast to that mild event, the 2008 'demand' side contraction reached an annualized 'growth' rate below -6% at the end of August, 2008, with the 'production' side GDP subsequently bottoming at a -6.4% annualized contraction rate during the first quarter of 2009. These two contraction events registered very differently in the equity markets: the 2006 event was largely ignored, the 2008 event was not.

To help investors understand the nature of the current 2010 contraction event, we have constructed a new chart (the "Consumer Metrics Institute's Contraction Watch" chart abovehere) that shows the first 90 days of the 2006, 2008 and 2010 events superimposed (with the 2010 event still less than 60 days old at this time). Clearly the 2006 and 2008 events look different. We will be able to watch the 2010 event unfold on a day-by-day basis over the next 6 weeks, and the chart should provide us with a much better idea of how it compares with its two predecessors in an almost real-time mode.

By March 6th our 'Weighted Composite Index' completed an extraordinary two week round-trip excursion from essentially neutral readings to nearly 5% year-over-year contraction and back again to neutral. Again the two weakest sectors we monitor were Housing and Retail. The Housing Index (chart on left below) continued to bump along with a very nearly double-digit year-over-year shrinkage in consumer demand, with the Home Loans Sub-Index having shrunk to the lowest level recorded since September 2008. And by March 6th the Retail Index (chart on the right below) had returned to levels indicative of a greater than 6% year-over-year decrease in consumer demand. This number is substantially different from the self reported sales figures from the retail industry, which suffer from 'survivor bias' as a consequence of focusing on 'same store sales in stores open at least a year'. The closing of select stores or entire chains are simply unreported, while the traffic shifted to remaining stores generates a positive spin. Our substantially more negative numbers, however, have been matching sales tax collections, which have no survivor bias. We believe our internet based sample is a fair representation of the entire 'demand' side of the economy, and the sales tax numbers seem to confirm that conclusion.

It's great to see you posting regularly again Gaius. You were a guiding light during the depths of the global financial crisis from 08 to early 09. I look forward to your commentary to help me guide my way forward from here.

China would step up work to monitor non-banking financing, said the China Banking Regulatory Commission (CBRC) Tuesday in a statement on its web-site.

More focus would be put on businesses in connection with trust companies and the real estate sector to prevent banks from using non-banking financing to circumvent policies, said Liu Mingkang, chairman of the CBRC.

I don't know much about China but I do know that what people say about China they said about Israel... for about 100 years now. Israel has grown economically as a steady pace. Even through wars, economic isolation, climate change, political ups and downs, hyper inflation, THE worst ethnic cleansing ever... it seems to me that American think that China can not make it without them... that they think the Chines people will suddenly get lazy and stop working hard... that they will go back to apartments built in the 1950's... China's economic "wake up" is almost exactly what Israel has done in the 1970S. It is also similar to Japan, South Korea, Spain and probably Russia. I don't think that the Chinese will stop working, educating on a high level or building. Israel seemed to have had building bubbles, but in the end they were just hold-n-wait. Let's wait and see. My blog bit.ly/h0X7w

if it were just about hard work, i think most people in most places would be just fine all the time. china will work itself out in time, and a society with a sixth of the planet's population should by rights be an economic powerhouse dwarfing the united states. it will be in time.

for now, however, china has industrialized using the trick that the US itself tried on europe in the late 19th-early 20th c -- an artificially low currency exchange rate. as then, it has allowed a massive and long-lasted trade/capital imbalance to build up. and that means china has (as the US did then) a massive productive overcapacity which will have to be worked off; this is the flipside of the US having (as europe did then) a massive debt overhang from years of overconsuming from that overcapacity.

the resulting workout will be traumatic, and probably moreso for china than the US (as was the case in the early 20th c, where the US suffered more than did europe).

i can't speak intelligently on israeli economic history, but i'd be interested to know if/when israel ever ran such a sustained economic imbalance, from which side and what in time came of it.

Monday, March 08, 2010

Of particular interest at the moment is the fact that the HHMSW index, unlike most other indicators, shows a renewed deterioration subsequent to the initial recovery in the first part of 2009, a somewhat surprising result given the current steeply-sloping yield curve, low TED spread, and booming stock market. The surprising contrary inference from the HHMSW index appears to be due to two factors. First, the HHMSW index is based on the deviation of the financial indicators from what one would have predicted given recent economic conditions. Many indicators have not improved as much as one would have expected given the return to GDP growth, and the departure from a typical recovery pattern is viewed by the index as a highly pessimistic development. Second, the HHMSW index makes use not just of the yields themselves but also of the quantities of various assets, and many of these show little improvement so far. For example, issuance of new asset-backed securities remains quite low.

Friday, February 12, 2010

Maybe. But with its massive store of savings, Japan didn’t have to worry about depending on the kindness of creditors in China and the Mideast as its bond rates scraped along at zero. The U.S. does.

The truth is that Japan was actually in that same precarious position, a decade ago. With Japanese government debt skyrocketing because of massive fiscal deficits, all of the ratings agencies, the IMF, the OECD — they all issued horrendous warnings against Japan. Japanese bond investors remember very well that JGBs were downgraded repeatedly, to the point where Japan’s debt was rated lower than that of Botswana, because the ratings agencies were so sure that at some point the whole thing would come crashing down and that interest rates would soar. But it never happened. And the reason is easy to understand, once you grasp the concept of a balance sheet recession. The amount of money that the government has to borrow and spend to sustain GDP is exactly equal to the amount of excess savings generated within the private sector of the economy. So that money is actually available within the private sector, even in the U.S., even in the U.K. And the U.S. is no longer a low savings rate country; the last statistic was over 6%, higher than Japan. What’s more, with companies also increasing their savings, there’s no “crowding out” and banks are only too happy to lend to the government, as the last borrower standing — and also because they don’t have to keep as much capital against loans to the government as they would against private sector loans, allowing the banks to rebuild their profits and balance sheets.

It sounds almost too good to be true —

It’s not. I believe that as more and more people in the U.S. realize that this is the mechanism at work, the fear of interest rates rising will be increasingly reduced, and I won’t be surprised to see long bond rates in the U.S. falling from where they are now. In any event, whether you start with a high savings rate or a low savings rate, once a country enters a balance sheet recession because the private sector is paying down debts, you end up having excess savings in the private sector and it is those excess savings that the government has to borrow and spend. It doesn’t have to borrow externally. So the U.S. doesn’t have to borrow from China or anywhere else. But because that’s contrary to the mind set for the last 10 or 20 years, it’s very hard for people to come around to that realization.

These "unconventional" ideas are making increasing headway! pragcap moving from cautious consideration of Koo to cautious consideration of MMT... zerohedge saying positive things about Koo's ideas! (How long til MMT for them I wonder?). Still no movement from Mish though!

First of all the balance sheet issue regarding deficits and savings (or the artifact of double- entry bookkeeping) is Econ 101. Most of the economists on the 'net have been parading it in the past few months in order to pacify the hysterical: Krugman, Hamilton, Thoma, Auerback, etc.

All of this is besides the point because the relay of funds from one custodian to another does not effect velocity or multipliers. There is no new 'money' being created. The shell game does not create more peas, it simply moves the one little, tiny, useless pea around.

Also, we are not having a credit crisis per- se, but an energy crisis where decreasing fuel availability is mediated by credit. The distortions in credit are noticeable ... but are the symptom. Declining fuel availability is the disease.

hi hbl -- i know mish is on board with steve keen a bit, though, so that's improvement. i share some of keen's misgivings about MMT; i think the damage that can be wrought by severe currency changes are broadly underestimated by MMT theorists.

steve, i'm sure you're reading gregory macdonald -- i think you're right in part. the financial crisis is i think has its genesis in a series of large balance of payments problems caused by inappropriate currency pegging. not just china/japan/east asia vs USD, but also germany vs southern/eastern europe.

against this unfolding crisis backdrop, however, is the aggravating factor of oil scarcity. very complex interaction between the two. would live to hear more of your thoughts.

These "unconventional" ideas are making increasing headway! pragcap moving from cautious consideration of Koo to cautious consideration of MMT... zerohedge saying positive things about Koo's ideas! (How long til MMT for them I

Friday, January 08, 2010

some excellent twitter comments of late from deepfoo analytics regarding perceptions and reality regarding unemployment.

combined EUC and NSA continuing claims higher now than it has been for most of the year. SA's assuming people got seasonal work

People who are using the SA continuing claims numbers only are fooling themselves. EUC program over last year, up +2.88 million

EUC/CC data issue less a markets one & more a risk that admin will do nothing based on imprving #s, when they are getting worse

to be sure, the unemployment situation is far from the accelerating freefall of a year ago -- there is a technical recovery underway resulting from the combination of significant government stimulus, a monster inventory correction cycle following a "full-stop" in production in 4q2008, and what trader mark of fund my mutual fund cannily noted as

1 in 7 Americans not bothering to make a home payment anymore, the "self stimulus" plan should help spending incl retail

investors and financial media do not mention this stimulus period. Many Americans sit in homes without making mortgage.

what this is perhaps not, however, is a durable credit expansion and self-sustaining recovery. there is obviously a cycle afoot whereby job cuts reduce nominal incomes, incomes then reduce asset prices, which thereby make loans riskier and fuels credit contraction, which leads then to more job cuts, lower incomes and lower asset prices and so forth.

perhaps the best hope for breaking this cycle from here is a business-led investment recovery, as viewed by accrued interest.

Its not impossible. Business spending can and does occur in the absence of strong consumer demand. We know that businesses have spent very little on capital replenishment.

[T]he drop off [in non-residential investment] is much more severe this recession than in 2001 or 1991. In fact, fixed investment as a percentage of GDP (9.5%) is at its lowest point since the early 1960s (although about the same as the 1990-1991 recession.) Since 1960, the average capital spending level as percentage of GDP is 11%. In order to get capital spending up to 11%, businesses would have to increase capex by 16%! Again, this could add considerably to GDP without a serious ramp-up in consumer spending. In fact, I'm modeling that fixed investment adds something like 1.1% to GDP in 2010.

Bottom line: I think GDP grows above 4% on average in 1Q and 2Q 2010, then drops off a bit into the mid 3's for the second half.

this (or any) kind of expansion has to translate at some point into job recoveries if incomes (and not just profits) are going to be bolstered and the housing market slowly recover -- and that is the key operation, as without a housing market recovery (or at least stabilization) of some kind loan performance at banks will continue to deteriorate and send hundreds if not thousands more banks to the FDIC. moreover disposable incomes will continue to erode and final end-user demand -- to which the corporate sector is mostly a leveraged passthrough -- will decline, undermining any recovery effort.

in short, if we're going to avoid a double dip that will remove all doubt that we are in a depression, this business-led recovery that creates household income has to come off in spite of massive excess capacity. (and probably more, such as principal reductions for underwater debtors handcuffed to further government recapitalization of banks damaged thereby.) wall street is clearly pricing in not only that recovery but (to judge by the stock market, if it is in any way linked to the fundamental economic backdrop at all) that the profits of the recovery will be retained for the benefit of the capital structure and therefore shareholders. that likely won't suffice for a durable recovery.

so if employment growth is key to stabilizing and repairing the economy, getting the proper picture of employment is critical. zero hedge and paper economy both take up the issue of the unemployed falling off continuing claims rolls as their benefits expire. much has been made of the slow improvement in initial jobless claims, but that is still quite far from improving employment. adding unadjusted (so as to nullify the seasonal adjustments which, as deepfoo notes, are very likely inappropriate under these circumstances) continuing claims with extended claims we can see that the ranks of the unemployed receiving benefits are near all-time highs, over 10.6mm in december.

and that isn't the total. there's a difficult-to-assess number who have fallen outside the boundaries of these benefit programs as well, whose incomes have gone missing. henry blodget relays the new york times:

About six million Americans receiving food stamps report they have no other income, according to an analysis of state data collected by The New York Times. In declarations that states verify and the federal government audits, they described themselves as unemployed and receiving no cash aid — no welfare, no unemployment insurance, and no pensions, child support or disability pay.

Their numbers were rising before the recession as tougher welfare laws made it harder for poor people to get cash aid, but they have soared by about 50 percent over the past two years. About one in 50 Americans now lives in a household with a reported income that consists of nothing but a food-stamp card.

that's a further two million people who have been pushed outside the margin by the depression. and there's more. many older workers have been pushed into retirement sooner than they would have expected or liked, and are taking a hand in bringing forward by several years the inflection point whereupon social security has become a cash flow drag upon the federal government finances. there are also legions of newly-minted workers fresh from school with very few job prospects and no claim on any benefit.

i've tended to look at EMRATIO (which is seasonally adjusted, bear in mind) to get a better picture of the problem than tracking the unemployment rate. as a ratio of total employment to total population, it isn't perfect -- but it does avoid some of the sampling pitfalls that come with trying to count what isn't there. EMRATIO is still collapsing hard, returning to levels not seen since before women really started to enter the workforce, and shows that some 5% of the population which was working in 2007 today is not. in a country of 310mm people, that's 15.5 million. and still growing rapidly.

and that's still not all. as calculated risk highlights again this month, employed part time for economic reasons is at stunning highs of over 9.2mm. there are some 5mm people here who have had their wages and hours cut, in most cases severely, from two years ago which the economy would have to re-employ to bring incomes back to former levels.

others have also commented on the immensity of this problem for a society that hasn't sustained growth of 3mm jobs in a year for over a generation. even in the unsustainable bubble economy of the 1990s -- the fastest payroll growth rate period in living memory -- the united states averaged about 2.8mm. indeed its questionable as to whether a new layer of structural, or permanent, unemployment has been created. and i myself (with apologies to accrued interest) am doubtful that the inventory correction cycle will extend into a lengthy business-led recovery with the kind of damage being wrought to the job-creating small business engine of this country by the contraction of the banks. ed harrison helpfully points out that recalculation may mean persistent unemployment as malinvestment is unwound and the labor force retrained, but of course that creative reorganization of resources can trigger deep depressions following massive misallocations such as we saw over the last several years.

fearsome as it is, at least having a robust picture of changes in employment beyond the headline unemployment rate reported by the BLS will help discern whether job growth is helping to get us out of the trap.

Another data point is the latest CBO deficit report, which estimates that payroll taxes are down 1.9% compared to the first three months of FY 2009. (Withholding is off 8.5%, but it is complicated by Making Work Pay and other factors--primarily the lack of capital gains and the dimunition of dividend and interest income. Payroll taxes are a pretty steady percentage of income (and until last year had never fallen in nominal terms). So the employment situation is very bad if this number is still going down.

You make a good point about all of the hidden stimulus occurring right now--people not paying their mortgages, people refinancing at sub-5% rates. But the government stimulus is not really very effective because so much of it is directed towards simply maintaining the status quo--like extending unemployment benefits or Medicaid payments to the states. These two items have skyrocketed, but all they really do is keep people where they are. (Not saying they should cease, I'm just saying they're not very stimulative.) That's right, the federal government can run a $1.6 trillion deficit and it's not really stimulative because it's not new money.

The situation is analogous to a college student with limited income who receives $100 unexpectedly from a favorite uncle--that's stimulative . . . But the money mom and dad give him every month for rent and food--that's not.

I work in a very small, very odd corner of the world, but I see something that I haven't seen yet work its way into the conversation. If "employment" means a full-time job and a W2(which is how most econ dev efforts are judged), then we are certainly headed for prolonged, structural unemployment.

But the world of getting paid money for the provision of services is rapidly leaving that definition behind. 2009 is the first year since 2000 that I've filed a W2. Everything else has been 1099s. And I'm far from alone in this work-style, to coin a phrase.

Then you have to consider the "corporate diaspora" - laid-off white collar workers who will never have a "job" again. These folks are now consultants filing (what?) 1099s.

Lastly, in this day of ubiquitous, immediate data, for the love of Pete, can't we find a better way to measure employment than calling a microscopic sample of people and asking them a set of narrowly defined questions?